The Ultimate Guide to Finding Early-Stage Companies

The recipe and some examples

Identifying early-stage companies can be challenging. From high risks and complex business models to intense competition and uncertain competitive advantages, the process can be daunting.

This article is designed to guide you through the key factors in spotting promising early-stage companies. Plus, we qill share some real-world examples to bring these insights to life!

And without further ado, let’s dive in!

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To effectively find early-stage stocks (and stocks in general), it is essential to have a reliable source of information. My go-to is marketscreener.com, as it offers comprehensive historical data and insightful analysts' consensus on future projections.

If you are interested and want to support this newsletter, you can find an Affiliate link just here.

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General elements to look for

To identify promising early-stage stocks among the thousands listed on the market, it is essential to focus on a few key indicators. Here are some general elements to consider:

• At least 20% annual revenue growth in the past (as long as it’s relevant to the company’s stage and market)

• At least 20% annual revenue growth expected in the future, demonstrating strong growth potential

• Consistently improving net margins (it may be negative at first, but should show a positive trend)

• Consistently improving free cash flow (FCF) and FCF margins, even if negative in the early stages

• A clear, easy-to-understand business model that is simple for investors to grasp

• Reasonable dilution if cash is needed, with no excessive share issuance that could undermine value

Key elements to consider when analyzing a business model

When studying a company’s business model, it is crucial to focus on two key aspects:

• The market the company operates in

• The company's strengths, weaknesses, opportunities, and risks, essentially, identifying its competitive advantage and potential to succeed

There are both must-have and nice-to-have elements to consider:

• Must-have

  • Clear investor relations and strategy. Detailed investor presentations with clear communication increase the likelihood that the business model is solid

  • Experienced management. A track record of delivering on promises (or at least avoiding overpromising and underdelivering) is essential

  • Market share growth. The company should be expanding its presence in its market

  • Competitive advantage. A clear and sustainable edge over competitors is crucial

  • Revenue generation. The company should already be generating revenue from its products or services, demonstrating a validated business model

  • Sustainable growth. The company should have a business model that supports long-term growth

• Nice-to-have

  • Analyst coverage. Having at least one analyst following the company can be counterintuitive for early-stage stocks, but it often indicates that the business model is credible

  • Reasonable debt levels. A manageable level of debt is favorable

  • International presence. Operating in multiple countries shows scalability

  • Insider buying. Insider confidence can be a positive sign of the company’s future prospects

  • Recent or upcoming catalysts. New developments, partnerships, or products that could drive growth

  • Reasonable valuation. While harder to judge in early-stage companies, finding one with a fair valuation is a strong indicator of an underfollowed stock

• Growth-boosting elements

  • Recurring revenue. A steady stream of recurring income ensures financial stability and predictable cash flow

  • Serial acquirer. A history of strategic acquisitions demonstrates the company’s growth potential and ability to expand quickly

  • Ultra-high gross margins. High margins allow for strong leverage and improved profitability once the company reaches breakeven

  • Ultra-high ROIC. A strong return on invested capital (ROIC), paired with strong growth, indicates an asset-light, fast-growing company with excellent capital efficiency

When to be cautious

You should be cautious of certain red flags that can often lead to disappointment. As I mentioned earlier, excessive dilution can be a major issue. While it may be necessary or even beneficial at times, it often means your ownership stake in the company will decrease as new shares are issued for additional funding. In extreme cases, this can lead to a complete loss of value.

Biotech companies can seem promising, but as I have outlined in the article below, the success rate in this sector is below 10%. This means there is a high likelihood that a biotech company will fail to meet expectations. More generally, companies that lack revenue or rely on unproven promises without solid evidence of their business model’s potential are inherently risky.

The Importance of Success Rates in Clinical Development for Biotech Investment

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Now that we have covered the general framework, it is time to explore 5 potentially promising early-stage companies. This section is exclusively available to paid subscribers. Here is why upgrading to a paid subscription is worth it:

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